Monday, 10 February 2014

Yes, you can measure competition

I was really pleased to see the strong pro-competition messages in the Productivity Commission's recent Boosting productivity in the services sector, 2nd Interim Report, Competition and ICT topics. Competition-enhancing or competition-friendly voices don't always get their fair share of the airwaves against the noise kicked up by interests who'd prefer the competitive scrum to be screwed their way, so it's great to see the Commission bluntly saying that "Over the past two decades, evidence has mounted that intensity of competition is a key influence on the level and rate of productivity growth. Competition drives the efficient use of resources and the innovations that sustain productivity growth over time. Barriers that prevent new firms from entering a market (or prevent existing firms from exiting a market) dampen competition, and the contribution it makes to lifting productivity" (from the 'Overview' section).

There's been a far bit of publicity already given to the Commission's draft recommendations (which sensibly include doing something about the currently virtually toothless s36 of the Commerce Act, which in theory aims to prevent parties with market power from using that power to obstruct the competitive process and which in practice is like nailing jelly to the wall), so I won't revisit them. But I would like to point out some very interesting work the Commission did which hasn't got the same amount of attention.

Here, for example, is the Commission's attempt to measure the degree of competition in the different sectors of the economy. I know, I know, it's a bit of a heroic ask in the first place, and arguably you really want to look more at competition in markets than competition in sectors, which aren't the same thing, but it's a valiant start.

The Commission calls it a competition "heatmap", with the whiter bits representing the cooler, less competitive sectors and the darker bits the hotter competition areas, when measured against six potential indicators of the degree of competition (the six columns in the body of the table), such as the degree of entry and exit, and pricing relative to cost.

There isn't any enormous road-to-Damascus revelation in the table - the Commission rightly says "The overall picture across industries...is mixed" (p38) - but some service industries show up down the less competitive end (finance and insurance; rental, hiring and real estate; and professional, scientific and technical services), and the Commission concludes that it "gleans an overall message from the research....This message is that scope exists to sharpen competition in service industries. Policy makers should seek policy changes to achieve this outcome and implement them when doing so would yield net benefits" (p38).

Right on, folks!

The Commission also had a different go at assessing the level of competition, by getting Colmar Brunton to run quite a large survey (1,526 senior decision makers across a sample of middle to larger business), asking the question, how hard did various providers of business services fight to keep the decision makers' business?

Here are the results, pretty much self-explanatory - brown/pink is not much effort put into fighting for business customers, light/dark blue is lots of effort.

It's not a great overall picture. As the Commission said, "Respondents rated as “limited” the efforts of many service providers to gain or retain the respondent’s business", and that "Providers of legal services were perceived to put in the least effort (38% were rated as having made no effort), followed by freight, equipment rental, and accounting services" (both quotes from p37). Elsewhere in the report the Commission raised the possibility of "market studies" (studies of the levels and process of competition in different markets), an idea I and others had recommended to them in earlier submissions: it seems to me that four sectors have just self-selected themselves onto the market study short list.

Finally, these indicators of intensity of competition show that, while it's far from being a precise exercise, you can make a reasonable stab at figuring out what the state of competitive play is in any given marketplace (the Electricity Authority has also had a go, as I blogged in 'Measuring the degree of competition'). And it's high time for the Commerce Commission to do the same.

Thus far, the Commission has shied away. In the outcomes listed in its..

Hang on, quick bit of jargon explanation needed here.

When public bodies commit to reporting on what they've been up to, or plan to be up to, in the likes of their Statement of Intent, they can report on four things: inputs (we hired more eye surgeons), outputs (we did more cataract operations), impacts (more people had their sight restored) and outcomes (the quality of people's lives improved). Things can be a little blurry at times, especially as between impacts and outcomes, but that's the overall scheme of things.

What's ultimately important for the Commerce Commission (and practically all other public bodies, too) is outcomes, as the Commission says on its home page - "Achieving the best possible outcomes in competitive and regulated markets for the long-term benefit of New Zealanders" - and as it also says on p8 of its latest Statement of Intent, where "Markets are more competitive" is one of the outcomes it is aiming for.

But the Commission doesn't currently have any measures of changes in competition outcomes included in its planning. Its rationale (p7 of its SOI) is that "While these high-level outcomes guide our work, it is not practical or cost-effective to directly measure our performance against them. We have chosen instead to measure the direct impact of our work, as this demonstrates how we are contributing to achieving our outcomes" (I've added the italics to make the whole input/output/impact/outcome thingy clearer).

Maybe that rationale was marginally true last May when the SOI was put to bed. But with other public bodies now making the first exploratory stabs at the levels of competition in various marketplaces, it's looking increasingly passé. I reckon it's time for the Commerce Commission to belly up to the bar and tell us what real differences are happening in our markets.

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“The remarkable thing about economics is that once you've been exposed to the big ideas, they begin to show up everywhere … Economics offers insight into wealth, poverty, gender relations, the environment, discrimination, politics...How could that possibly not be interesting?” - Charles Wheelan, Naked Economics: Undressing the Dismal Science, 2002

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